Accelerated depreciation is a method of depreciation used to depreciate the assets in a manner that greater deductions are allowed in the first few years. Accelerated depreciation can reduce costs during a company’s start up year. By increasing the deductions taken during the first few years of business, you will reduce your company’s overall tax debt.
Depreciation is one aspect of the tax, that facilitates greater investment in renewable energy and ultimately lower costs for consumers.
In solar projects, accelerated depreciation is widely used as an incentive to lessen the burden of the tax.
In India, Accelerated depreciation (AD) allows investors, mostly setting up capacity for captive use, to take advantage of up to 80% of the project cost.
How AD works in a 1MW solar power generation:
- Project cost (capital cost) to be 800 crores.
- The depreciation amount to be 90% (10 % scrap value assuming)
- Book depreciation (on fixed assets) to be 5.28 % (Dep. As per companies act).
- Tax depreciation rate to be 80% (under Ad benefits)
- Effective tax rate (as per government) to be 33.99
The life of a solar project is considered to be 25 years, here we have taken into consideration only 5 years to show the effect of AD. (Though it continues for the entire life cycle of the project). The book depreciation under the straight-line method (as per companies act ) would be the same for every year. We should also take care of the date of project commissioning. In this case, it is September month. Therefore, the tax depreciation would be charged for 6 months in the first year for the financial year April-March.
It is very evident that initially, the AD would be very high, which helps to claim the 80% depreciation in the first few years itself.
In the II table, we can see the net benefit getting from AD when we compare it with book depreciation calculated under the straight-line method.
This will have a direct impact on the profits as net income will come down if depreciation expense is increasing resulting in less tax burden.
To find out how much levellized benefit one can avail (considering the average and fixed tariff adjusted for inflation) in per unit, we calculate the discounting factor.
In this case the per unit tariff is 2.22.
Calculation of AD under solar :
|Book Depreciation (Capital cost*Book depreciation)||Rs Lakh|
|Allowed during the year||%|
|Accelerated Depreciation||Rs Lakh|
|Net Depreciation Benefit||Rs Lakh|
|Tax Benefit||Rs Lakh|
Comparing this Trend with a 1 MW Wind project of the same project cost, we arrive at the inference that without AD benefit there is very little to save for the companies. For wind project, the income tax depreciation is 15% + 20 % (additional depreciation) for the first year. And from second year 15% depreciation is calculated. The tax depreciation is calculated on the SLM basis as no AD is applicable in wind projects.
In the first year, only 35 % has been charged and later 15% is charged on SLM basis, this does not lower the net income to that extent where investors would be able to lessen their tax burden.
In the case of wind projects:
With the help of below figures, this can be understood. When every year depreciation is charged at a fixed rate then it lobbies for the entire project cycle resulting in paying a more amount of tax which probably the investor could have used for reinvestment purpose. Depreciation is an expense. Expense lowers income, which lowers the tax payable. So basically with AD benefit prevailing in solar the investor is able to defer the taxes for a future period, and lessen the current taxes. This is particularly done as in the initial years not much higher returns are obtained for solar projects and the investor holds back the money thus saved from tax liability for the purpose of reinvestment.
The AD benefit can only be availed by a company implementing a project on its own books. In case a company X and a company Y wish to implement a joint project, the project company has to be defined as Z company. In this case the Z company’s AD benefits cannot be availed by X and Y promoter companies.